In this section, I will explore the meaning of the term institution, how it is applied and what is considered to be an institution. This is important for the thesis because the very essence of achieving successful reformations and absorption of FDI is, according to theory, the existence of strong institutions. I will mainly be using Douglass Cecil North´s discussion paper49, and article50 on institutions, Gretchen Helmke and Steven Levitsky book on “informal institutions and democracy” (partially building on North),51 and the case study of J.P Singh on “FDI
45 Ibid. P. 85
46 North, "Institutions and Credible Commitment." P. 9
47 Peter. Boettke, "Institutional Transition and the Problem of Credible Commitment," The Annual Proceedings Of The Wealth and Well-Being of Nations, p. 41, Emily Chamlee-Wright, ed., Beloit College Press, 2011 (2011).
48 Ibid. P. 50
49 North, "The Role of Institutions in Economic Development."
50 "Institutions and Credible Commitment."
51 Gretche & Levitsky Helmke, Steven, Informal Institutions & Democracy: Lessons from Latin America (Baltimore, 2006: The John Hopkins University Press, 2006).
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variation in Emerging Markets”.52 I use the above mentioned works on institutions as I find them applicable to our case. North talks about two main issues:
“What makes dysfunctional economies or economies that do not work well, and what we can do about it”53
The problem with institutional economics, and the reason it has faded from sight, is that it did not address explicitly the issues that had to be solved. According to North we have to understand what make economies work the way they do, which is a necessary precondition to say something about how we can make them work better.54 Therefore, I begin with a presentation of what institutions are, how they work, and why they work the way they do.
Revising the whole institutional paradigm within politics, economics, society and cultural heritage would have given us a greater perspective on Cuba´s institutional framework, but this would demand a study of greater scale. I will address them in chapter 4 within the framework of “idealist and pragmatic cycles” of Mesa-Lago, with the perspective of how they affect the credible commitment and FDI.
Opening the market for FDI was one of the key points in the “Washington
Consensus”, but North argues that neoclassical economics never was intended to deal with the issues of economic development. It evolved in the late nineteenth century and its objective was to explain efficient resource allocation in developed economies. It had two failures though,
1. It was frictionless;
2. It was timeless, static rather than dynamic in terms of its issues.
North´s presentation of institutions starts with some very basic assumptions, but gives us clear directions when we try to interpret and analyze our Cuban case. He says:
“Institutions would not exist in a frictionless world where there is no uncertainty. Institutions exist to reduce uncertainty in the world. In a world without institutions we would not know how to deal with each other. Institutions are the incentive system that structure human interaction. They can make predictable our dealings with each other every day in all kinds of forms and shapes. They thereby not only reduce uncertainty in the world but allow us to get on with everyday business and solve problems effectively. When we say institutions structure human interactions what we mean is that they provide incentives and disincentives for people to behave in certain ways; and if they are effective they structure and provide incentives and also structure economic, political and social activity. One cannot
52 Singh, "Fdi Credible Commitment."
53 North, "The Role of Institutions in Economic Development." P. 1
54 Ibid. P. 1
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make sense out of the world with just economic reasoning. You have to know political and social theory and, as you are going to see, you must also know cognitive science.”55
The reason one needs to know all of this is that we do not live only in an economic world, a political world or a social world, but in a world that consist in a mixture of all of them. The institutional theory should embody all of them and not only integrate various disciplines. It should also be able to integrate the analysis with those parts of neoclassical economic theory that are useful and helpful in solving problems. I will be addressing the formal and informal rules and norms that follow the various institutions to see how they affect Cuba`s credible commitment and flows of FDI.
Peter Boettke agrees with North´s presumptions, but elaborates on the notion of society and cultural heritage.
“This evolution of thought from prices to institutions to culture should not be interpreted as
superseding what was learned during the earlier stage. But instead the stages should be viewed as the outgrowth of delving deeper into the original question of how to get an economy on track to provide generalized prosperity to the people within that economy. Generalized prosperity cannot be had without a private property market economy, but such an economy cannot be established on a wide scale without a system of governance bound by general rules and strict limits established on state action, and a country cannot meaningfully institute general rules and strict limits unless the informal beliefs and institutions of the people in question legitimate those rules and limits.”56
The general lessons learned from the post-communist experience, is that we must see beliefs that legitimate the ends of governments; limits on the stakes of politics must be in place; property rights and personal rights must be defined; and credible and binding
commitments to respect these rights must be established. The key to political order (according to North) is the establishment of credible bounds on the behavior of political officials. Private incentives may thwart economic progress by curtailing the progression from personal
exchange networks to the extended order of impersonal exchange and realizing the gains from specialization, exchange, and social cooperation under the division of labor. To explain the wealth and poverty of nations, we must look towards the fundamental institutions of
governance that “curb the predatory proclivities of man”.57 Also, a government strong enough to establish a constitution is almost by definition strong enough to break the constitutional
55 Ibid. P. 1
56 Boettke, "Institutional Transition and the Problem of Credible Commitment." P. 46
57 North in ibid. P. 48
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bindings any time it desires for political expediency. The tying of the rulers’ hands in politics appears to be more difficult than presumed, especially in autocracies and totalitarian states.58